SEC proposes expanding advisor custody rule

SEC proposes expanding advisor custody rule
The agency is considering extending the regulation to cover all assets in a client's portfolio, not just securities and funds.
FEB 15, 2023

The SEC proposed on Wednesday an expansion of custody rules for investment advisors so that they cover more assets and apply to advisors who have authority to trade in their clients’ accounts.

A split Securities and Exchange Commission voted, 4-1, to release the proposal, which for the first time since 2009, would amend regulations that govern advisors who maintain control of their clients’ assets.

The 434-page proposal would extend custody obligations beyond securities and funds, which are covered by the current rule, and include all assets in a client’s portfolio. That would sweep in private securities, real estate, derivatives and other assets. It also would expand custody to crypto assets that are not securities.

Under the proposal, an advisor who can make trades on behalf of a client would be deemed to have custody of the client’s assets, according to an SEC fact sheet. The proposal also would require advisors to enter a written agreement with a qualified custodian to protect customer assets. Qualified custodians include banks, broker-dealers and trust companies, among other institutions.

The proposal would amend the custody exception for private assets by requiring advisors to hold those with a qualified custodian unless they can show that it’s not reasonable to do so.

The SEC last changed the custody rule 14 years ago following massive investor rip-offs perpetrated by Bernie Madoff and others. In 2010, the Dodd-Frank law gave the SEC more latitude to protect client assets following the financial crisis.

SEC Chairman Gary Gensler said the agency is taking advantage of the Dodd-Frank provision to beef up the custody rule.

“I support this proposal because … it would help ensure that advisers don’t inappropriately use, lose or abuse investors’ assets,” Gensler said at an SEC open meeting.

Republican SEC commissioner Hester Peirce was the only agency member to vote against releasing the proposal, expressing misgivings about its scope.

“Significant aspects of the proposed approach and its implementation timeline raise such great questions and concerns about the rule’s workability and breadth that I can’t support today’s proposal,” Peirce said at the open meeting.

She added that she hoped some of her reservations would be addressed during the public comment period, which will be open for 60 days after the proposal is published in the Federal Register.

“I hope I will be able to support the rule on adoption,” Peirce said.

Perhaps the biggest custody change for advisors centers on discretionary trading. Under the current custody rule, if an advisor places a trade for a client, custody is not triggered.

But under the proposal, custody occurs any time an advisor buys or sells assets on behalf of a client, Gensler said. “This would make clear that advisers who trade an investor’s assets cannot circumvent the custody rule and the safeguards it provides.”

That new definition of custody represents a sea change for advisors, said Gail Bernstein, general counsel at the Investment Adviser Association. The organization has been pushing for years for reform of the custody rule.

“It is really a fundamental departure from where we are today on authorized trading,” Bernstein said. “What that means in practice, we don’t know yet. The devil will be in the details of the release.”

The proposal would give smaller advisors more time than bigger firms to implement the reforms if they are ultimately approved by the SEC. Bernstein applauded that accommodation but said the proposal still presents a potentially big burden for small advisory shops.

In fact, the flurry of SEC rulemaking proposals is a challenge because many of them overlap.

“It’s got a disproportionate impact on smaller advisors,” Bernstein said.

Author James Stewart talks 'Unscripted' and the sordid battle for Sumner Redstone's billions

Latest News

More Americans are invested in the elections than the stock market
More Americans are invested in the elections than the stock market

A substantial number of people in a new 2,200-person survey believe their wealth, their "wallet power" and their retirement timelines are at stake.

Stocks rally to fresh highs as JPMorgan drives bank gains
Stocks rally to fresh highs as JPMorgan drives bank gains

The S&P 500 headed toward its 45th record in the year helped in part by a surprise interest income gain at the Wall Street giant.

Boosting payouts on cash crimps wealth management at Wells Fargo
Boosting payouts on cash crimps wealth management at Wells Fargo

Meanwhile, Wells Fargo’s WIM group reported close to $2.3 trillion at the end of last month.

Another AI-washing case shows where SEC is headed
Another AI-washing case shows where SEC is headed

The Securities and Exchange Commission has focused on "black-and-white" allegations of AI washing, but that could broaden out to a gray area that may loop in more financial services companies, a lawyer says.

High-net-worth giving splits along generational and gender lines, find BofA survey
High-net-worth giving splits along generational and gender lines, find BofA survey

More than nine in 10 HNWIs prioritize charitable giving, but demographics help shape the whys and the hows.

SPONSORED Destiny Wealth Partners: RIA Team of the Year shares keys to success

Discover the award-winning strategies behind Destiny Wealth Partners' client-centric approach.

SPONSORED Explore four opportunities to elevate advisor-client relationships

Morningstar’s Joe Agostinelli highlights strategies for advisors to deepen client engagement and drive success